The recent 2021 federal budget highlighted the government’s objective of encouraging infrastructure development to constructively boost employment and economic activity. This is an admirable objective, yet if funded by government alone, it is also one which may come at the cost of higher government debt, which must ultimately be repaid through taxpayer dollars.
A better alternative in a well-functioning economy is to encourage the funding of that infrastructure through private investment. Instead of higher government debt and taxes, private investment reduces government debt and the burden on taxpayers, while also helping investors to obtain an avenue to generate return (something which is increasingly difficult for retirees to achieve).
However, for this to occur, an economy requires investment vehicles that are suited to the provision of the patient long-term capital required to develop and/or maintain this infrastructure. By their nature, closed-end funds are one of the few investment vehicles well suited to investment in long-time horizon projects, while still providing their underlying shareholders with the ability to increase or decrease their investment at any time.
The global closed-end fund industry (which includes Australian LICs and LITs) has a market capitalisation approaching $1 trillion and has supported investment in the US, UK and Australian economies.
A proven structure
Closed-end investment funds listed on stock exchanges have been an important part of major financial markets over the past 150 years.
The Foreign & Colonial Investment Trust was launched in the United Kingdom in 1868 to bring the advantages of professionally managed pooled investing to the investing public. The trust has delivered on that objective, paying a dividend to its shareholders in every year of its history, and is still in existence today.
There are two attributes that have made the closed-end structure’s longevity important for investors:
Today there are 388 listed investment companies and trusts operating in the UK, with a combined market capitalisation of $430 billion. Some 25 of those companies have histories stretching back for more than 100 years.
Across the Atlantic, the North-American closed-end fund industry was started in 1893 and now consists of 628 separate funds representing $338 billion of net asset value. The funds trade on a variety of US and Canadian stock exchanges, including the New York Stock Exchange.
The Australian LIC and LIT industry comprises 102 investment companies and trusts with a market capitalisation of $53 billion. They may be bought and sold on ASX. Australia’s oldest listed investment company was founded in 1923.
Benefits for investors
In addition to the benefits from professional management of the investment fund, and the continuous liquidity and convenience of buying and selling through the stock exchange, closed-end funds may also provide investors with benefits from:
- Transaction, administration, tax and marketing cost savings. Closed-end funds avoid the repeated and unnecessary buying and selling of investments faced by open-end funds, which experience daily deposits and withdrawals. The LIC/LIT industry contains some of the most cost-efficient investment vehicles that may be accessed by retail investors in Australia;
- Access to asset classes that may not otherwise be available to retail investors. This may assist an investor through greater diversity or access to the higher returns that periodically accompany lower liquidity or longer duration assets;
- The ability for the fund to be a contrarian buyer of assets when they are cheapest (such as when investment markets are fearful and open-end funds and ETFs must be forced sellers).
Open market pricing
Listed closed-end funds are bought and sold on a stock exchange at the market price agreed between buyers and sellers. While this price may approximate the underlying fund net asset value, it may also take account of differing opinions on value or the volume of buyers and sellers on the day.
As with any share traded at market prices on a stock exchange, open market pricing creates the added opportunities and risks of buying assets cheaply or expensively.
A vibrant closed-end fund sector is a valuable asset in a well-functioning economy
A large LIC and LIT sector is eminently suited to providing the long-term investment capital to fund the many long-duration investments required in a growing economy. This provides an important focus on sustainability and longevity in a world that frequently suffers from short-term thinking.
Importantly, the more vibrant and active the closed-end fund sector can be in an economy, the better it will function.
A vibrant sector can offer investors increasing choice of managers and asset types. A vibrant sector encourages competition in terms of skill, service and efficiency. A deep and vibrant sector will be best placed to respond to mispricing opportunities, and by so doing increases the speed with which necessary change is implemented.
These thoughts are particularly pertinent in Australia today. The recent 2021 budget highlighted the government’s desire to encourage infrastructure development as a constructive means of fostering economic activity and employment. If this can be done through suitable investment vehicles such as LICs/LITs, then not only does it create desperately needed investment return for investors such as retirees but it also improves the government budget and in turn lowers the tax burden on all other Australians.
As we approach the 100th year of continuous operation for closed-end investment funds in Australia, and with global closed-end funds approaching $1 trillion of market capitalisation, it is worth recognising the important and useful role that a healthy closed-end investment sector provides.
Angus Gluskie, chairman, Listed Investment Companies and Trusts Association (LICAT)
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